We are maintaining our Neutral rating on China Petroleum and Chemical Corporation (SNP),aka Sinopec, based on higher natural gas production and expanding overseas activities, partially mitigated by unstable oil and gas fundamentals.
Sinopec with its head office in Beijing, China, is one of the largest petroleum and petrochemical companies in Asia. The company is the second largest crude oil and natural gas producer, and the largest refiner and marketer of refined petroleum products in China. It is also the largest producer and distributor of petrochemicals in the nation.
In the third quarter of 2011, Sinopec reported net income of 19.72 billion yuan (US$3.07 billion) and earnings per share of 0.228 yuan ($3.55 per ADS), both up 0.5% year over year. The increases can be attributable to domestic economic growth, and most importantly higher prices for petroleum and related products.
We expect 2012 to be a profitable year for Sinopec owing to the higher contribution from upstream activities. Sinopec acquired the Calgary, Alberta-based Daylight Energy for about C$2.2 billion or US$2.1 billion and announced plans to take over a 30% stake in the Brazilian unit of Portuguese oil company Galp Energia SGPS SA. These transactions are a part of Sinopec’s strategy of widening its oil and gas operations in foreign locations that hold immense potential with rich resources.
Another potentially lucrative growth area for the company is its natural gas business, which is expected to witness strong growth in the coming years. Recently, Sinopec agreed to increase its stake in the Australia Pacific liquefied natural gas (LNG) project by 10%, thus taking its share to 25%.
However, these positives are somewhat negated by the unpredictable oil and gas prices, which are inherently volatile and subject to complex market forces. Moreover, Sinopec remains under pressure due to the slowdown of the Chinese industrial sector in response to the global economic volatility.
Sinopec’s future prospects are closely linked with the successful completion of its growth projects, which in turn could be adversely affected by operational hindrances, cost inflations and overruns and delays in completion.
The other major areas of concern include operational disruptions, labor and material cost inflation affecting project outlays, governmental regulations and severe competition from domestic and international peers such as CNOOC Ltd. (CEO).
Hence, we foresee limited upside potential to the stock and expect Statoil to perform at par with the broader industry.
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